Beyond the 183 Tax Rule: Difference Between Tax Residency and Legal Residency

The term tax residency is often seen in financial publications and websites touching on topics related to international businesspeople or global investors. However, this is one of the hardest subjects not only to write about but also to understand and take into action.

Moreover, such publications usually discuss residency, and no matter how similar these terms are they should not be mixed. Getting any of these concepts wrong can end up bringing serious consequences.

When it comes to tax residency, it's vital to consider what determines residency in a state, a country, or jurisdiction, and norms like the 183 tax rule. Welcome to a new piece on taxation and tax residency and the clarification of what separates it from legal residency.

Tax Residency Versus Legal Residency: 183 Tax Rule and Other Considerations

In this article, we intend to clarify the difference between having legal residency and tax residency in a country. In this case, ignorance is not bliss, on the contrary, one may become a tax resident in a country without even knowing it and end up owing a lot of money. On the other hand, one may think that he or she is a tax resident in one country, and that he/she is not supposed to report in any other, but this is not necessarily so.

As we were saying, tax residency is a complex matter. When writing this article, I asked myself why is this, and it came to me: it's because tax residency is a concept, not a specific tool.

Let's compare it with other areas concerning international business. A trust, for example, is an agreement established between two parties. It doesn't exist until the agreement is signed and then it becomes something that the settlor will call a trust.

The same happens with a company, which is incorporated after filling out forms and meeting certain requirements. Something that wasn't there comes to be after following certain procedures. Now what happens with legal residency and tax residency?

Analyzing Legal Residency

Whether it’s through traditional pathways like marriage, studies, or work, or through residency by investment programs like the Qualified Investor in Panama, legal residency is obtained after following the migratory procedure and it is enforced once the authority signs the corresponding approval.

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Analyzing Tax Residency

Although there is such a thing as a tax residency certificate, this is not issued automatically. It's a certificate that you ask for when you need to prove being a tax resident of a certain jurisdiction. However, tax residency is an automated status that any individual reaches through the 183-tax rule.

Have you ever wondered what determines residency in a state, a jurisdiction, or a country? In most cases, this rule is the answer. Simply speaking, that person becomes a tax resident when spending six months living in any country, at least in some jurisdictions. Naturally, there are exceptions and many grey zones, but the general concept of tax residency can be based on this 183 tax rule. 

What Determines Residency in a State: Legal Residency or Tax Residency?

Now, we are starting to find discernment. Legal residency is what you obtain or what you ask for when you want to live legally in a foreign country. There are various means to achieve this. Only in Panama, for example, we can find at least four residency programs like the Friendly Nations Visa or the above-mentioned Qualified Investor.

Through these programs, the government grants successful applicants the legal right to live in the country for the stipulated period, but this has nothing to do with the 183 tax rule, i.e., this doesn't automatically make you a tax resident. Most importantly, it doesn't provide proof of tax residence status before foreign governments or authorities. 

What Determines Your State of Residence for Tax Purposes?

All in all, we can say that what determines your state of residence for tax purposes is how long you live in the country, regardless of your legal migratory status, even though these are closely connected. Many people choose to establish tax residency in Panama because it has territorial taxation, hence, to live legally for 6 months in the country, they need a legal residency. Beyond the 183- tax rule, another point becomes worthy of notice: in order to request a formal tax residency status, one must prove living in the country through local invoices, airplane tickets, passport stamps, utility and phone bills, tuition payments, and so on.

Disclaimer: This article is not based on formal financial research or studies, therefore, it should not be taken as financial or tax advice. Before establishing legal or tax residency in any country you should conduct the necessary research and consult with professionals.

What Determines Residency in a State and Why to Obtain It

Reaching the end of this article, it has become clear that what determines residency in a state is the corresponding authority after going through a migration process. On the other hand, tax residency is related to the 183 tax rule and it’s a much more challenging concept and procedure. In most cases, these statuses are analyzed on a case-by-case basis. 

At Mundo, we are in close connection with experts in Panama residency programs. We can help you obtain your residency through a real estate investment, through the Friendly Nations Visa, or through a lifetime pension.

Besides, we’ll be happy to help you incorporate companies, establish trusts, and open bank accounts in various international banks. We’re one click away! Reach out!

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